Analysis: Frontier Markets booming but risks mounting

Sun May 19, 2013 10:31am EDT
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By Manuela Badawy

NEW YORK (Reuters) - With the world's biggest central banks driving yields on safe assets to near zero, some investors are tossing caution to the wind and rushing to buy illiquid and previously overlooked bonds sold by countries with no capital markets track record.

Even the biggest investors acknowledge that "frontier markets" like Vietnam and Romania aren't for the faint of heart because nobody knows whether these new debt market players will be able to make good on their obligations.

Buying their bonds could prove painful just as it did with emerging markets during the Argentine economic crisis of 1999-2002, Asian financial crisis of 1997, and Russian financial crisis of 1998.

As investors rush into frontier markets, analysts suggest careful selection among countries. Some fund managers even say not to bother with the sector, as its risks outweigh returns.

"The main risk when you buy a bond is the risk of default," said Nicolas Jaquier, emerging markets economist at Standard Life Investments, with $272.6 billion in assets under management and holder of Paraguay's debut bonds. "But it is a bit mistaken to group frontier markets all together because it is a very diverse group ... with diverse credit worthiness and default risk."

Bolivia, Paraguay and Honduras, three of Latin America's poorest nations with a collective gross domestic product of roughly $67 billion - less than half of war-torn Iraq's economy - have each recently debuted sovereign bond sales.

Paraguay, a first-time issuer with no track record of repaying foreign investors its debt, auctioned $500 million of sovereign bonds in January, four months before its presidential elections.

"The election wasn't much of a worry because in Paraguay there is a fairly broad consensus among the policy makers and parties around economic policy-making and what is good for the country," Jaquier said, adding that politics play a big factor in investment decisions.   Continued...

Paraguay's central bank president Jorge Corvalan speaks during an interview for the Reuters Latin America Investment Summit in Asuncion May 30, 2012. REUTERS/Jorge Adorno